IRS Relaxes the FSA “Use it or Lose it” Rule for 2013

On Oct. 31, 2013, the Internal Revenue Service (IRS) says employers can allow participants to carry over up to $500 in unused funds into the next plan year. If your plan has a grace period*, it must be eliminated if the carryover is adopted. The plan may also be amended to specify a lower carryover amount, as well as not permit any carryover at all.

To take advantage of this new modified rule for 2013, employers must amend their section 125 cafeteria plan document in writing before the last day of the plan year. The adopted amendment can be effective retroactively to the first day of that plan year, as long as you inform the participants and follow the rules in the Notice, including the following:

• The same carryover limit must apply to all plan participants.
• FSA cannot be cashed out or converted to any other taxable or nontaxable benefit. The carryover may only be used to pay or reimburse medical expenses incurred during 2013 or 2014.
• The plan may not allow participants to contribute more than the $2,500 limit, or be reimbursed for more than $2,500 plus $500 carryover.
• Any unused amount in excess of $500 (or a lower amount specified in the plan) remaining at the end of the run-out period for the plan year will be forfeited.
• Any unused amount remaining in the participant’s FSA will be forfeited upon termination of employment (unless the employee elects COBRA coverage).

For more detail, see http://www.irs.gov/pub/irs-drop/n-13-71.pdf

*Grace period: The IRS allows employers to offer an extended deadline, or grace period, of two and a half months after the end of a plan year to use remaining health FSA funds. If a plan has provided for a grace period and is being amended to add a carryover provision, the plan must also be amended to eliminate the grace period provision by no later than the end of the plan year from which amounts may be carried over.